Looking for a bounce

05/14/19

Yesterday S&P 500 was off 5% from its record high

Prior lows may be potential support levels

Fibonacci retracement levels also coming into view

From the Bad News, Good News Department: The bad news is that yesterday the S&P 500 (SPX) extended its pullback from its May 1 all-time high to around -5.2%, which makes it by far the index’s biggest retracement since December.

The good news: The SPX is only around 5% off its all-time high, and is higher than it’s ever been on all but around 30 days of its existence.

It can be pretty easy to forget the market is still as high as it is when stocks are selling off in a way they haven’t in more than four months, and “Trade War!” headlines abound. But that’s precisely when traders need to objectively assess the market landscape—not just the news, but the price action itself.

Source: Power E*TRADE

Anyone doubting this is a news-driven story should think back to Friday, when an early -1.6% SPX loss on reports of failed trade negotiations morphed into a +0.4% gain after positive comments from Treasury Secretary Steve Mnuchin.1 But Monday’s news that China had slapped retaliatory tariffs on the US2 blew any lingering good vibes out of the water, and sent the SPX to its biggest intraday decline (-2.8%) of the year.

There’s no reason to think this pattern of bad-news-down, good-news-up is going to end, which means any solid reports of “We’re going to work this thing out” from one or both sides could send the market sharply higher, at least temporarily. That could happen in the next five minutes, two days from now—or in six months.

That said, traders will now be looking beyond the headlines for signals of where the pullback may find a bottom, and many of them will looking at prior lows and Fibonacci retracement levels as possible support.

The market often bounces or reverses when it tests a prior high or low, as anyone watching the SPX last fall can testify: The index reversed repeatedly around 2,810 on the upside and around 2,630 on the downside. The following chart highlights two relatively recent SPX swing lows, the late-March lows around 2,785 and the early-March low around 2,722. Some traders may be expecting a near-term decline to one of these levels, and a bounce at one or both of them, if not necessarily a full-fledged reversal.

Source: Power E*TRADE

The early-March low is also around the 38.2% Fibonacci retracement level of the SPX’s December–May rally. The Fibonacci series is a number progression in which each successive number is the sum of the two immediately preceding it: 0, 1, 2, 3, 5, 8, 13, 21, 34, 55, 89…and so on. Traders use many properties of the series to forecast price moves, but the most common application is to use ratios of different numbers in the sequence to calculate how much of a past trend a market may potentially retrace.

The most commonly referenced Fibonacci ratios are 38.2%, 50%, and 61.8% (i.e., 34/89 = 0.382, 1/2 = 0.5, and 55/89 = 0.618). The fact that one of the more prominent Fibonacci levels coincides with a conspicuous recent low may draw some extra attention from traders.

There’s never a guarantee that a forecasted support or resistance level will produce a price reversal, but traders always need to think in advance about what may happen, and plan accordingly.

Just as the market’s early 2019 rally wasn’t going to extend forever without a pullback or retracement, the recent down move won’t be permanent. Short traders need to stay sharp to know when to take profits, and bulls need to prepare for an eventual rebound—whenever it may occur.

Market Mover Update: Yesterday’s sell-off was accompanied by rallies in the usual “defensive” suspects: Gold, US Treasuries, and the Japanese yen. In the US stock market, utilities were the only positive corner of the S&P 500.

Uber’s (UBER) second day was a lot like its first, with the stock falling more than 11% intraday. Fellow ride-sharer Lyft (LYFT) fell more than 6%.

This was calculated based on E*TRADE's Active Trader fees and commissions, and may have different results if executed with a broker charging different rates.

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